Does Debt Consolidation Hurt Your Credit?

Consolidating debts into one payment and paying as agreed can help your credit and make budgeting easier — but there are risks as well.

Bev O'SheaMay 30, 2019

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Consolidating your debt can lower your monthly payments, but it can also cause a temporary dip in your credit score.

Two common debt consolidation approaches include getting a debt consolidation loan or a balance transfer card. Both types require a hard inquiry on your credit, which can lower your credit score by a few points.

But if you change the habits that led to debt and pay on time, every time, the overall effect should be positive.

Here’s a closer look at the potential impact on your credit when you consolidate your debt with a personal loan or balance transfer credit card.

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How debt consolidation can affect your credit

Debt consolidation combines several debts into one, ideally with a lower interest rate and a faster payoff. Having fewer payments to juggle and saving on interest can help you pay off debt.

Consolidating with a personal loan

Pros:

  • Generally requires a lower credit score for approval than a balance transfer card. (Not sure where you stand? Check your free credit score with NerdWallet.)

  • Can help improve credit mix if you had only credit cards before, because it is an installment loan.

  • Can combine several payments into one, simplifying your finances.

  • Can improve credit by lowering the amount of credit limit you're using, known as credit utilization, if unsecured credit card bills are moved to an installment loan.

Cons:

  • It can lead to even more debt if you use newly available space on credit cards.

  • If you end up overextended and unable to pay, late payments can damage credit.

  • Paying high fees to borrow money (be sure you understand the APR).

  • Having a prepayment penalty (some do not, so check).

Consolidating with a balance transfer card

Pros:

  • Lower interest rate (often for a set time), including a 0% APR for excellent credit consumers.

  • Flexible payments.

  • No prepayment penalty.

Cons:

  • A lower credit score because of high credit utilization.

  • Not paying off the debt before the offer runs out (the downside of flexible payments), resulting in higher interest rate.

Other options

If those options don’t seem like a good fit, there are other debt consolidation options that also can affect your credit.

Keep in mind it’s generally not a good idea to replace unsecured debt (like credit card debt) with secured debt (like a mortgage or car loan) because you could lose your home or vehicle if you can’t pay.

  • Home equity loan or line of credit: Will be reported as an installment loan or revolving account, depending on which you get. You’ll also get hit with a credit check.

  • 401(k) loan: Does not appear on your credit report, so it has no effect on your credit score.

  • Debt management plan: Seeing a credit counselor and signing up for a debt management plan does not directly affect your credit score, but negotiating to pay less than the full amount due or closing credit cards can hurt your score. A DMP is noted on your credit report while it is in effect, but not after the plan is completed.

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